2014-0547181R3 loss consolidation

Principal Issues: Is the loss consolidation arrangement acceptable?

Position: Yes.

Reasons: Consistent with prior rulings.

Author: XXXXXXXXXX
Section: 15(1), 20(1)(c), 56(2), 112(1), 112(2.1), 112(2.2), 112(2.3), 112(2.4), 187.1, 191(1), 246(1)

XXXXXXXXXX
                                          2014-054718
XXXXXXXXXX, 2014

Dear XXXXXXXXXX:

Re:   XXXXXXXXXX (“Parent”)
        XXXXXXXXXX (“Holdco”)
        XXXXXXXXXX (“Lossco”)
        Advance Income Tax Ruling

This is in reply to your letter of XXXXXXXXXX wherein you requested an advance income tax ruling on behalf of the above-named taxpayers.

We understand that to the best of your knowledge and that of the taxpayers involved none of the issues involved in the requested ruling is:

(i)   in an earlier return of a taxpayer identified in this document or of a related person;

(ii)  being considered by any Tax Services Office or Taxation Centre of the Canada Revenue Agency (“CRA”) in connection with a tax return already filed;

(iii) under objection by a taxpayer identified in this document or by a related person;

(iv)  is before the courts or, if a judgment has been issued, the time limit for appeal to a higher court has not expired; and 

(v)   is the subject of a previously issued ruling. 

Our understanding of the facts and proposed transactions is as follows:

Facts

Definitions:

(a)   “Act” means the Income Tax Act, R.S.C. 1985 (5th Supp.) c.1 as amended to the date hereof;

(b)   “affiliated persons” has the meaning assigned by subsection 251.1(1);

(c)   XXXXXXXXXX;

(d)   XXXXXXXXXX;

(e)   “CRA” means the Canada Revenue Agency;

(f)   “dividend rental arrangement” has the meaning assigned by subsection 248(1);

(g)   XXXXXXXXXX;

(h)   XXXXXXXXXX; 

(i)   “Holdco” means XXXXXXXXXX;

(j)   “Holdco Preferred Shares” means the preferred shares to be issued by Holdco to Parent as described in paragraph 15 below;

(k)   “Lossco” means XXXXXXXXXX;

(l)   “Lossco Preferred Shares” means the Preferred Shares to be issued by Lossco to Holdco as described in paragraph 14 below;

(m)   “non-capital loss” has the meaning assigned by subsection 111(8);

(n)   “Parent” means XXXXXXXXXX;

(o)   “Parent Loan” means the loan made by Lossco to Parent as described in paragraph 16 below; 

(p)   XXXXXXXXXX;

(q)   “Proposed Transactions” means the transactions described in paragraphs 14 to 22 below;

(r)   “public corporation” has the meaning assigned by subsection 89(1);

(s)   “Regulations” means the Income Tax Regulations as amended to the date hereof;

(t)   “related persons” has the meaning assigned by section 251;

(u)   XXXXXXXXXX;

(v)   XXXXXXXXXX; and

(w)   “taxable Canadian corporation” has the meaning assigned by subsection 89(1).

Except as otherwise noted, all statutory references in this advance income tax ruling are references to the provisions of the Act and all terms and conditions used herein that are defined in the Act have the meaning given in such definition unless otherwise indicated.  Unless otherwise noted, all references to currency are to Canadian dollars.

1.    Parent is a XXXXXXXXXX.  It is a taxable Canadian corporation, a public corporation, XXXXXXXXXX.

2.    Parent’s registered address is XXXXXXXXXX.  Its Taxation Centre is the XXXXXXXXXX Taxation Centre and its Tax Services Office is the XXXXXXXXXX Tax Services Office.  Parent’s taxation year-end is XXXXXXXXXX.

3.    Holdco is a direct wholly-owned subsidiary of Parent.  It is a taxable Canadian corporation, XXXXXXXXXX.

4.    Holdco’s registered address is XXXXXXXXXX.  Its Taxation Centre is the XXXXXXXXXX Taxation Centre and its Tax Services Office is the XXXXXXXXXX Tax Services Office.  Holdco’s taxation year-end is XXXXXXXXXX.

5.    Lossco is a direct wholly-owned subsidiary of Holdco.  Lossco is a taxable Canadian corporation, XXXXXXXXXX.

6.    Lossco’s registered address is XXXXXXXXXX.  Its Taxation Centre is the XXXXXXXXXX Taxation Centre and its Tax Services Office is the XXXXXXXXXX Tax Services Office.  Lossco’s taxation year-end is XXXXXXXXXX. 

7.    As at XXXXXXXXXX, Lossco had a balance of non-capital loss carryforwards of $XXXXXXXXXX, as reported on its tax return filed for the taxation year ending XXXXXXXXXX.  These losses were incurred in Lossco’s taxation years ending XXXXXXXXXX and were incurred pursuant to transactions entered into in the ordinary course of Lossco’s business.  It is expected that Lossco will have an additional $XXXXXXXXXX of non-capital losses in Lossco’s taxation year ending XXXXXXXXXX.

8.    Lossco’s only permanent establishment is in the province of XXXXXXXXXX.

9.    XXXXXXXXXX

10.   Parent’s taxable income for its three prior taxation years was as follows:

XXXXXXXXXX

11.   It is expected that Parent will be able to fully utilize the interest paid or payable on the Parent Loans made to it against its income for its taxation year ending XXXXXXXXXX.  Parent’s estimated taxable income for its taxation year ending XXXXXXXXXX is $XXXXXXXXXX.

12.   Parent has a permanent establishment in each of the provinces and territories listed below and, for its taxation year ending XXXXXXXXXX, its provincial/territorial income was allocated as follows:

XXXXXXXXXX

You estimate that as a result of the Proposed Transactions, the following will be the amounts by which income tax in the provinces and territories listed below will be reduced:

XXXXXXXXXX

13.   XXXXXXXXXX

Proposed Transactions:

14.   Lossco’s share capital will be reorganized so as to create a new class of non-voting, cumulative dividend, redeemable, retractable preferred shares, issuable in series (the “Lossco Preferred Shares”).  The cumulative dividends payable on the Lossco Preferred Shares will be calculated by reference to the redemption/retraction price of the Lossco Preferred Shares at a rate for a particular series equal to the interest rate on the Parent Loan plus a small spread of approximately XXXXXXXXXX%.  Dividends on the Lossco Preferred Shares will be payable quarterly in arrears, except that (i) the first dividend may, if the Proposed Transactions are entered into on a day other than the first day of a particular quarter, be payable at the end of the next quarter that begins after the day the Proposed Transactions are entered into, and (ii) the last dividend (which may also be the first dividend if the Proposed Transactions are entered into after the first day of the third quarter or are not in place for multiple quarters) may, if the Proposed Transactions are unwound (as described in paragraph 21 below) prior to XXXXXXXXXX, be payable upon the unwinding of the Proposed Transactions.  The terms of the Lossco Preferred Shares will provide that the payment of the redemption or retraction price may be satisfied, at Lossco’s option, either by (i) cash payment or (ii) the delivery of indebtedness of Parent having an aggregate principal amount equal to the redemption or retraction price. 

15.   Holdco’s share capital will be reorganized so as to create a new class of non-voting, cumulative dividend, redeemable, retractable preferred shares, issuable in series (the “Holdco Preferred Shares”).  The cumulative dividends payable on the Holdco Preferred Shares will be calculated by reference to the redemption/retraction price of the Holdco Preferred Shares at a rate for a particular series equal to the interest rate on the Parent Loan plus a small spread of approximately XXXXXXXXXX%.  Dividends on the Holdco Preferred Shares will be payable quarterly in arrears, except that (i) the first dividend may, if the Proposed Transactions are entered into on a day other than the first day of a particular quarter, be payable at the end of the next quarter that begins after the day the Proposed Transactions are entered into, and (ii) the last dividend (which may also be the first dividend if the Proposed Transactions are entered into after the first day of the third quarter or are not in place for multiple quarters) may, if the Proposed Transactions are unwound (as described in paragraph 21 below) prior to XXXXXXXXXX, be payable upon the unwinding of the Proposed Transactions.  The terms of the Holdco Preferred Shares will provide that the payment of the redemption or retraction price may be satisfied, at Holdco’s option, either by (i) cash payment or (ii) the delivery of indebtedness of Parent having an aggregate principal amount equal to the redemption or retraction price.

16.   On a particular day to be determined by Lossco, Lossco will make a loan to Parent (the “Parent Loan”).  On the same day, Parent will use the proceeds of the Parent Loan to subscribe for up to $XXXXXXXXXX of Holdco Preferred Shares.  Holdco will use the proceeds from the share subscription to subscribe for up to $XXXXXXXXXX of Lossco Preferred Shares.  The Parent Loan will constitute unsubordinated indebtedness of Parent and will be repayable by Parent at any time without penalty. 

17.   Simple interest will accrue on the Parent Loan and will be calculated at a rate of approximately XXXXXXXXXX% per annum.  The interest on the Parent Loan will be paid quarterly, except that (i) the first interest payment may, if the Proposed Transactions are entered into on a day other than the first day of a particular quarter, be made at the end of the next quarter that begins after the day the Proposed Transactions are entered into, and (ii) the last interest payment (which may also be the first interest payment if the Proposed Transactions are entered into after the first day of the third quarter or are not in place for multiple quarters) may, if the Proposed Transactions are unwound (as described in paragraph 21 below) prior to XXXXXXXXXX, be made upon the unwinding of the Proposed Transactions.  There is no “right to reduce” the interest on the Parent Loan and the interest is not otherwise contingent such that no portion of the interest on the Parent Loan will be considered to be a “contingent amount”, all as defined in subsection 143.4(1) of the Act.

18.   Subject to the applicable solvency test, Lossco will pay dividends equal to the amount of the dividends payable by it on the Lossco Preferred Shares.

19.   Subject to the applicable solvency test, Holdco will pay dividends equal to the amount of the dividends payable by it on the Holdco Preferred Shares.

20.   Parent will pay interest on the Parent Loan when due and payable.

21.   Prior to the end of Parent’s taxation year ending XXXXXXXXXX, the following transactions will occur on one or more days:

(a)   Lossco will pay the balance of any accrued and unpaid dividends on the Lossco Preferred Shares that will be redeemed under paragraph 21(d) below;

(b)   Holdco will pay the balance of any accrued and unpaid dividends on the Holdco Preferred Shares that will be redeemed under paragraph 21(e) below;

(c)   Parent will pay the balance of any accrued and unpaid interest on the Parent Loan or portion thereof that will be cancelled under paragraph 21(f) below;

(d)   Lossco will redeem all or a portion of the Lossco Preferred Shares held by Holdco for their aggregate redemption amount and will deliver to Holdco, as payment of the redemption amount, such portion of the Parent Loan having an aggregate principal amount equal to the redemption amount;

(e)   Holdco will redeem all or a portion of the Holdco Preferred Shares held by Parent for their aggregate redemption amount and will deliver to Parent, as payment of the redemption amount, such portion of the Parent Loan having an aggregate principal amount equal to the redemption amount; and

(f)   The delivery of the Parent Loan or portion thereof as payment of the redemption amount, as described in paragraph 21(e) above, will result in Parent’s obligations under the Parent Loan or portion thereof being discharged and cancelled.

22.   The transactions described in paragraph 21 above will result in, on or prior to XXXXXXXXXX, the payment of all accrued dividends on the Lossco Preferred Shares, the payment of all accrued dividends on the Holdco Preferred Shares, the payment of all accrued interest on the Parent Loan, the redemption of all Lossco Preferred Shares, the redemption of all Holdco Preferred Shares and the repayment of the Parent Loan.

23.   The loss consolidation arrangement described in paragraphs 14 to 22 above is anticipated to be undertaken in the taxation year of Parent, Holdco and Lossco ending on XXXXXXXXXX.  It is not expected that the loss consolidation arrangement described in paragraphs 14 to 22 above will transfer losses to Parent in excess of Parent’s income for the taxation year ending XXXXXXXXXX.

Other Representations:

24.   The Lossco Preferred Shares which will be issued as described in paragraph 14 above, will not, at any time during the implementation of the Proposed Transactions described in paragraphs 14 to 22 above, be:

(a)   the subject of any undertaking that is referred to in XXXXXXXXXX;

(b)   the subject of a dividend rental arrangement (and nor will any of the dividends paid on the Lossco Preferred Shares in the course of the Proposed Transactions be received as part of a dividend rental arrangement);

(c)   the subject of any secured undertaking of the type described in paragraph 112(2.4)(a); or

(d)   issued for consideration (nor will Lossco receive any other property, directly or indirectly, from an investor or any property substituted therefor) that is or includes:

(i)   an obligation of the type described in subparagraph 112(2.4)(b)(i), other than an obligation of a corporation that would be related to Lossco (if the Act were read without reference to paragraph 251(5)(b)); or

(ii)  any right of the type described in subparagraph 112(2.4)(b)(ii).

25.   The Holdco Preferred Shares which will be issued as described in paragraph 15 above, will not, at any time during the implementation of the Proposed Transactions described in paragraphs 14 to 22 above, be:

(a)   the subject of any undertaking that is referred to in XXXXXXXXXX;

(b)   the subject of a dividend rental arrangement (and nor will any of the dividends paid on the Holdco Preferred Shares in the course of the Proposed Transactions be received as part of a dividend rental arrangement);

(c)   the subject of any secured undertaking of the type described in paragraph 112(2.4)(a); or

(d)   issued for consideration (nor will Holdco receive any other property, directly or indirectly, from an investor or any property substituted therefor) that is or includes:

(i)   an obligation of the type described in subparagraph 112(2.4)(b)(i), other than an obligation of a corporation that would be related to Holdco (if the Act were read without reference to paragraph 251(5)(b)); or

(ii)  any right of the type described in subparagraph 112(2.4)(b)(ii).

26.   Parent, Holdco and Lossco are affiliated persons and are related persons, and will remain affiliated persons and will remain related persons while the Proposed Transactions are in place.

27.   XXXXXXXXXX.

28.   Holdco is expected to have significant interest and dividend income apart from dividends received on the Lossco Preferred Shares in its taxation year ending XXXXXXXXXX to pay the dividends on the Holdco Preferred Shares held by Parent.

Purpose of the Proposed Transactions:

29.   The purpose of the Proposed Transactions is to effect a tax consolidation of Parent and Lossco.  Under the Proposed Transactions, Lossco earns interest income on the Parent Loan.  The amount of the interest income is intended to be equal to the amount required to fully utilize Lossco’s non-capital losses as at its XXXXXXXXXX taxation year-end.  

Rulings Given:

Provided that the preceding statements constitute complete and accurate disclosure of all the relevant facts, Proposed Transactions and purpose of the Proposed Transactions, and provided that the Proposed Transactions are completed in the manner described above, we rule as follows:

A.    Provided that Parent has a legal obligation to pay interest on the Parent Loan and that the Holdco Preferred Shares continue to be held by Parent for the purpose of gaining or producing income, in computing its income for a taxation year, Parent will be entitled to deduct, pursuant to paragraph 20(1)(c) of the Act, the lesser of (i) the interest on the Parent Loan as described in paragraphs 20 and 21(c) above, paid in the year or payable in respect of the year (depending on the method regularly followed by Parent in computing its income for the purposes of the Act) or (ii) a reasonable amount in respect thereof. 

B.    The dividends received (or deemed to be received) by Holdco on the Lossco Preferred Shares held by it as described in paragraphs 18 and 21(a) above will be taxable dividends that will, pursuant to subsection 112(1) of the Act, be deductible in computing its taxable income for the taxation year in which the dividends are received (or deemed to be received), and for greater certainty, such deductions will not be precluded by any of subsections 112(2.1), 112(2.2), 112(2.3) or 112(2.4) of the Act.

C.    The dividends received (or deemed to be received) by Parent on the Holdco Preferred Shares held by it as described in paragraphs 19 and 21(b) above will be taxable dividends that will, pursuant to subsection 112(1) of the Act, be deductible in computing its taxable income for the taxation year in which the dividends are received (or deemed to be received), and for greater certainty, such deductions will not be precluded by any of subsections 112(2.1), 112(2.2), 112(2.3) or 112(2.4) of the Act.

D.    Neither Part IV.1 nor Part VI.1 of the Act will apply to the dividends described in Rulings B and C because the dividends will be excepted dividends within the meaning assigned by section 187.1 of the Act and excluded dividends within the meaning assigned by subsection 191(1) of the Act. 

E.    The provisions of subsections 15(1), 56(2), and 246(1) of the Act will not apply as a result of the Proposed Transactions in and by themselves.

F.    The delivery of the Parent Loan or portion thereof to Parent in satisfaction of the redemption amount of the Lossco Preferred Shares as described in paragraph 21(e) above will not give rise to any forgiven amount within the meaning of subsection 80(1) of the Act. 

G.    Subsection 245(2) of the Act will not be applied, as a result of the Proposed Transactions, in and by themselves, to redetermine the tax consequences confirmed in the rulings given above.

The above rulings are given subject to the limitations and qualifications set out in Information Circular 70-6R6 dated August 29, 2014 and are binding on the CRA provided that the Proposed Transactions, other than those described in 21 and 22 above, are completed by XXXXXXXXXX.  The above rulings are based on the law as it presently reads and do not take into account any proposed amendments to the Act which, if enacted, could have an effect on the rulings provided herein.

Comments:

Nothing in this ruling should be construed as implying that the CRA has agreed to, reviewed or has made any determination in respect of:

(a)   the fair market value or adjusted cost base of any property or the paid-up capital of any shares referred to herein;

(b)   the amount of any non-capital loss, net capital loss or any other amount of any corporation referred to herein; or

(c)   any tax consequences relating to the facts and Proposed Transactions described herein other than those specifically described in the rulings given above.

Yours truly,

XXXXXXXXXX
for Director
International Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch

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